chapter 11 strategic management

8/10/2019 Chapter 11 strategic management

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Oxford University Press 2011

Strateg ic Management

N. Chandrasekaran,VicePresident Currently, Take Solutions Ltd

P.S. Ananthanarayanan, Visitingfaculty at Bharathidasan Institute ofManagement (BIM), Trichy


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Chapter 11Applications of Strategic Cost

Management


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Applications of Strategic Cost Management

In the past few years the managementaccountant has become much more of afinancial and business strategy advisor to senior

management. Operating and sales managersare demanding meaningful cost information andmanagement accountants are helping them seehow their actions affect costs and the bottomline.

Jim Smith,

Former Director (Cost Management), MarmonGroup Inc


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Learn ing Object ives

To understand the nature and importance of strategic

cost management

To identify the stages of product development

To identify ways to measure the cost of development

as part of strategy and recovery thereof over the

lifetime of the product

To explain the concept of pricing in different contexts

To identify the cost of human resources strategy in

different contexts such as downsizing, corporate

restructuring, and business process reengineering


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Learn ing Object ives

To discuss the need for continuing costing of business

cycle

To explain the concept of value chain analysis and the

need for a cost strategy

To understand the tools of strategic cost managementsuch as life cycle costing, target costing, Kaizen

costing, activity-based management/costing, total cost

management, time value of money and money value

of time, value chain strategy, strategic costmanagement, value engineering, value analysis,

value addition, and enterprise cost management


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Importance of Strategic Cost

Management

The implications of the various objectives, performance, andevaluation of strategy can be well-understood, both

qualitatively and quantitatively, only if the implied values are

fully measured

Strategic cost management can be described as

critically examining every process within an organization

knocking down barriers between functional areas

Understanding supplier businesses and help the whole

supply network to rationalize and reduce costs


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Steps In Strategic Cost

Management Programme

Finding focus

Mapping

Detection of facts and deviation

Gap analysis and control

Implementation



Alignment Of Strategic Cost Management

To Business Strategy

Total Approach Concept

Product Strategy

Pricing Strategies

Human Resources Strategy

Business Cycles and Strategic Cost Management

Value Chain Strategy

Value Reference Model



ContdTotal Approach Concept

A holistic approach to strategic cost management

This involves identifying end requirements and aligning sub

processes

It may involve the use of special costing tools such as activity-

based costing, Kaizen costing, and total cost management

Product Strategy

Company continuously needs to innovate its product strategy

New products need to be introduced at an appropriate stage of

the life of existing products.

This product strategy, and in turn the product development

policy, must emphasize cost leadership, product differentiation or

both.



Pricing policies and strategy



Human Resources Strategy



Business Cycles and Strategic

Cost Management



Value Chain Strategy



Value Reference Model

It integrates the modeling, design, and measurement of business

performance by including the planning, governing, and executingrequirements for the design, product, and customer aspects of

business

The six business functions of the value chain

1. Research and development

2. Design of products, services, or processes

3. Production

4. Marketing and sales

5. Distribution

6. Customer service



Tools Of Strategic Cost Management

Life Cycle Costing

Target Costing

Pricing Strategies

Kaizen Costing

Half Life Model

Activity-based Management/ Activity-based Costing

Total Cost Management/Enterprise Cost Management

Cost Reduction Programme



Life Cycle Costing



Cost tree with branches



Target costing Target costing is a cost management tool that makes cost the

key focus throughout the life of the product

Target selling price = Target cost + Targeted profit*

Target costing process



Cost management system at Toyota



Pricing Strategies

PricingTechniques

1. Skimming

2. Penetration

3. Psychological

pricing4.Prestige pricing


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Components of marketing criteria


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Kaizen Costing

It is a Japanese term for a gradual approach to ever higher

standards in quality enhancement and waste reduction, through

small but continual improvements involving everyone from the

chief executive to the lowest level workers

Emphasizes continuous improvement for which a companyscost

structure needs to reshape itself again and again to match

industry and market requirements

Continuous improvement in cost reduction without compromising

on quality because from a customers perspective, only value-

adding activities are relevant and worth paying for.

Since each key cost component has a cost driver and it becomes

necessary to work out cost driver analysis


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Half Life Model

half life model has been suggested to improve the usage of

machines and tools.

This is based on empirical observation and practical experience

that observes any defect level that decreases at a specific rate

over a certain time period

Vendor Quality


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Activity-based Management/ Activity-based Costing

Activity-based management is an approach to management that

aims to maximize the value adding activities while minimizing or

eliminating non-value adding activities

Activity-based Costing is concerned with matching costs with

activities (called cost drivers) that cause those costs.

The following are the steps

Identify cost objectives, key activities, resources, and related

cost drivers

Develop a process-based flowchart representing the activities,

resources, and their interrelationships

Collate relevant data relating to cost and flow of the cost driver

units and allocate them among resources and activities

Computation and interpretation of the new activity-based

information as derived from the previous step


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Total Cost Approach

1. Rationalization of vendors

2. Integration of vendors

3. Reducing complexity in purchasing process

4. Cost of setting up world-class manufacturing practices

5. Strategic sourcing

6. Cost of quality

7. Cost of network consolidation and gaining customer insight


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Cost Reduction Programme

1. Reengineering business processes

2. Effective management of demand

3. Reducing commercial value leakage

4. Improvement of service effectiveness

5. Efficient tax planning

6. Judicious outsourcing

7. Redesign and rescheduling of operations


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Time Value of Money (TVM)

TVM is based on the concept that money received earlier is

worth more than the same amount of money received later It becomes necessary to value stream of income and

expenditure

In a projection over the years, this needs to be discounted in

such a way as to arrive at the present value of the entireprojection of cost and revenues

Techniques

Net Present Value Method

Benefit Cost Ratio

Internal Rate of Return

N t P t V l M th d(NPV)


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Net Present Value Method(NPV) The NPV method aims at matching future cash flows against a

project cost using discounting techniques to obtain present

value. A NPV of zero on matching future discounted cash flow with the

project investment means that the benefits of the project are

adequate to meet the total cost of the project, on the basis of the

assumed discounting factor Positive NPV is necessary to accept a project for reliability

The main features of the present value method

1. The intermediate cash flows of the project are reinvested at a

rate equal to the cost of capital.

2. The NPV of any product decreases with the increasing

discounting rate.


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Benefit Cost Ratio

NPV is a rational method to decide as to whether a project is a

go or no go. It does not fully quantify the exact return obtained

by the investment

The benefit cost ratio (BCR) method is an improvement over the

NPV method; especially when more than project can be

considered while taking decisions:

-The formula for BCR is, BCR = PVB/I

Where, BCR is the benefit cost ratio ,PVB is the present

value of benefits , I is the initial investment

This can be rewritten as NBCR= PVB/I- I

Where, NBCR is the net benefit cost ratio

I t l R t f R t


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Internal Rate of Return The internal rate of return (IRR) is equivalent to the rate of return

on the investment in the project.

It measures the rate of return earned on the initial investment by

matching the future cash flows with the initial investment at the

rate when the difference becomes zero

Advantages :

1. All the cash flow streams are considered

2. The concept of time value of money is fully applied

3. Businessmen like this method because a definite rate of return

can be computed

4. It is helpful in computing a marginal sale of the product

But it can be misleading when a company has to choose between

two mutually exclusive projects having significantly different

investment.

M V l f Ti


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Money Value of Time

Many companies try to improve their performance

within a specific time horizon, say financial year, that is,money earned against the parameter of time

Effective utilization of the temporal resource results in

the concept of money value of time

Pricing a portfolio of products can also be better

accomplished using this concept

Money value of time is very useful in reducing

expenditure as also in augmenting revenue


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Value Engineering

Value engineering has

been associated with

product design and

substitution.

Leads to winwin

situation .

Steps in Value

Engineering:

o Preparation

Information

o Analysis

o Creation

o Evaluationo Development

o Presentation

o Follow-up

V l i i d th d t lif l


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Value engineering and the product life cycle

V l A l i


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Value AnalysisValue engineering and value analysis are a great boon for an

ongoing business as a part of strategy

It deals with both primary and secondary/support functions and

impact thereof on the product value

Basis of value analysis


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Consumer surplus increases and leads to customer delight

through value engineering and value analysis

These techniques of value engineering and value analysis aretied to strategic cost management because of the following

reasons

1. Any improvement through value engineering and value analysis

is enduring and has a long term impact.

2. Being a judicious application of technology and cost to

implementation of an idea which has a strategic approach, the

cost incurred has a long term identity.

3. With technological obsolescence and the rapidity particular

spheres of business activities need value engineering as a

strategic tool


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More Questions1)

Aggressive innovation strategies include cannibalizing yourown products before competition does. Elucidate with an

example

2) You may contact a multi-product or service company.

Identify the application of activity-based management andvalue engineering. Identify the activities which ensure

increase value to various stakeholders

3) Total cost analysis is a critical strategic input for managerial

decisions. Elucidate and illustrate with an example

chapter 11 strategic management

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